Home > Economic policy, Environment > How to replace the National Electricity Market

How to replace the National Electricity Market

There are quite a few proposals around to intervene in, or repair, the National Electricity Market. In my view, it’s much too late for that. We need to scrap the NEM and start on a new path towards a zero-carbon electricity and energy system. I’ve written down some preliminary thoughts. I’d appreciate comments and also suggestions as to how I might push this idea along a bit.

Background

(a) The National Electricity Market has failed, and requires radical restructuring

(b) The ultimate goal of energy policy should be a 100 per cent renewable supply of electricity, providing both for existing needs and for conversion to electric vehicles by 2050

(c) The goal of a bipartisan policy is currently unattainable. Policy design should be based on the premise of a change of government at the next election

Outline

The starting point would be the creation of a single Australian Energy Authority, to replace the Energy Security Board, AEMC, AEMO, AER, and the energy-related functions of the ACCC and state regulators. The authority would 

(i) determine requirements for investment in the network, and undertake auctions for power purchase agreements, in which both privately owned and publicly owned generators would be free to compete.  The agreements would encompass both generation and storage, and would seek to phase out coal-fired generation over time, before a complete transition to renewables. Bids for fossil fuel generation would be required to incorporate a carbon price

(ii) match supply and demand using an order of merit for generators and appropriate demand management,  where the decision as to which generators to use at any given time would be made on the basis of cost and reliability of supply.

(iii) enter demand management arrangements with large power users, allowing for interruptibility of supply and investment in on-site storage

(iv) set out standard retail contracts, allowing households to manage their use through smart meters, which would be rolled out with costs being spread across the network as a whole

(v) plan and, to the extent possible, undertake new investments in transmission and distribution networks, with the ultimate goal of restoring public ownership of the entire network

(vi) Regulate returns to owners of monopoly distribution assets, with  net rate of return set equal to the government bond rate, guaranteed for the life of the asset

The objective of the Authority would be the provision of a stable, reliable and affordable supply of energy while managing a transition to a zero-carbon economy.

 Comparison with the NEM

The existing National Electricity Market is unique to Australia. Wholesale prices are set on the basis of bids for five-minute periods, with a cap of $12,500 per megawatt hour (MWh).  Electricity is purchased by retailers who then supply consumers. The consumer price consists of the average wholesale price paid by retailers, the retail margin and a regulated charge for distribution and transmission.  

The objectives of the market design were to provide market signals for investment in new generation capacity, drive efficiency gains in network monopolies, enhance consumer choice through retail competition and reduce prices overall.  The design took no account of the need to decarbonize electricity supply (though this was clear even at the time the NEM was designed in the 1990s), with the result that emissions reductions policies had to be overlaid on a market structure designed primarily for coal-fired power.

None of the objectives of the NEM have been achieved. Prices have risen drastically, investment has been chaotic and inadequate and retail competition has resulted in large increases in retail margins. Despite a plethora of confusing options, retail customers face prices that bear little or no relation to the actual costs of generation, particularly at times of peak demand.

The proposed scheme would maintain competition in generation through PPA auctions. It would enhance the role of price signals to consumers by offering contracts designed to allow households to minimise the cost of electricity use.  However, instead of relying on market price fluctuations to guide investment decisions, the investment requirement would be determined at a system wide level, taking account of demand and the need for reliable supply. The use of market comparators for monopoly transmission and distribution enterprises would also be abandoned, in favor of a low, guaranteed rate of return. 

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  1. Paul
    September 12th, 2017 at 17:01 | #1

    Sounds like a declaration of war, Professor!

    And so it should be. PM Turnbull remains stuck on the political fence impaled by Tony Abbott while ordinary Australians suffer rocketing electricity prices. Nor has the PM jumped in with major help to alleviate the increased homelessness caused by his intransigence.

    Labor and the Greens should be unashamed in pushing back against the tide of LNP indecision and plain indifference on this.

  2. Smith
    September 12th, 2017 at 17:29 | #2

    “Regulate returns to owners of monopoly distribution assets, with net rate of return set equal to the government bond rate”

    No private company will invest in distribution assets to get the bond rate. Why would they? They could get just buy government bonds with their shareholders’ funds without any of the risks and hassles of running a distribution business.

  3. Fran Barlow
    September 12th, 2017 at 17:38 | #3

    @Smith

    I’m fine with that.

  4. Smith
    September 12th, 2017 at 17:42 | #4

    @Fran Barlow

    I think it might be the intent.

  5. Fran Barlow
    September 12th, 2017 at 18:41 | #5

    If so, it’s a pretty neat way of getting the preferred result. 🙂

  6. totaram
    September 12th, 2017 at 18:52 | #6

    I was wondering where the distribution assets fit in, because without some way to bring them into the picture in an integrated way, there is no way you will get all the system-wide load-flow and stability analyses meaningfully adhered to.

    Just to explain, I seem to recall the wind farms in SA were setting various safety parameters on “default values”, without regard to the rest of the grid, and that led to some problems. In addition, the wind farms can be compensated for offering “stability services” which they can do with today’s power electronics, but again only if system-wide studies are done, and the necessary details worked out.

    It’s pretty obvious the whole system needs to be integrated properly and “breaking it up for privatisation” was just so much ideological rubbish which completely ignored basic engineering.
    Just my rant.

  7. Thomas Lumley
    September 12th, 2017 at 19:14 | #7

    How does the NEM differ from the NZ electricity market, which seems to have similar goals and approaches?

    One possible difference is that the NZ market prices in a second-best supplier to cover failure of the preferred supplier (eg, if the Cook Strait cable between North and South Islands goes down), but that doesn’t seem to cover the main problems.

  8. September 12th, 2017 at 19:26 | #8

    Yes. You need one-stop shopping for the regulator, and to abandon the pretence of competition in the inherent monopoly of the transmission and distribution grid. The regulator also has to be, for technical reasons, the manager of the market. Remember that even securities markets, as close to the Chicago ideal as we get, have regulated monopoly arrangements for settlement and record-keeping.

    Looking further ahead, I wonder whether the capitalist model can long survive for generation, with generally zero marginal costs. Will it be profitable to invest to take RE from 60% to 80%? A problem for the future of course.

  9. totaram
    September 12th, 2017 at 19:41 | #9

    Just for the record, my attention was drawn to this:

    https://industry.gov.au/EnergyWhitePaperataglance/index.html

    Worth reading just for perspective. Ha, ha!

  10. Alphonse
    September 12th, 2017 at 20:02 | #10

    I defy anyone to read this full federal court decision and come away thinking that the NEM makes any kind of sense.

    https://jade.io/article/531357

  11. Kevin Cox
    September 12th, 2017 at 22:15 | #11

    Give preference to community cooperatives to finance local infrastructure, local generating and storage.This will keep profits within local communities.

  12. Moz of Yarramulla
    September 13th, 2017 at 07:52 | #12

    @totaram

    That was awful. Would not read again, 2/10. It reminded me too much of the last budget “economic growth will come primarily from a mass wage increase so we’re slashing penalty rates to prevent that”. It all makes perfect sense until you join the dots or summarise it.

  13. Moz of Yarramulla
    September 13th, 2017 at 07:58 | #13

    instead of relying on market price fluctuations to guide investment decisions, the investment requirement would be determined at a system wide level

    Sounds like 1970’s state infrastructure planning. You remember, back when the technical systems actually worked (by the standards of the day). I like the idea, and I think getting governments to plan for/accept that other parties have different ideas is the core problem. I do wonder whether that might be a suitable goal for Turnbull, and perhaps about the limit of his capacity – make decisions and produce systems that prepare the way for a slightly more sensible government in the future.

  14. Ikonoclast
    September 13th, 2017 at 08:54 | #14

    It has become obvious that market liberalism has failed the majority of people in Western democracies. The majority are worse off, either absolutely, or relative to the rich and relative to where ordinary people could have been on more social-democratic economic settings.

    However, market liberalism has not failed the rich. For them it has been a tremendous success. Their wealth and power have increased dramatically. Their stranglehold over government policy and established parties is almost complete. Can we move away from this? It’s going to take a lot of people power that’s for sure. All we can do is keep hammering away at the issues logically and validly as J.Q. does.

    I maintain hopes that human history and development do have an evolutionary logic. In somewhat archaic terminology that logic can be termed “dialectical materialism”. In more modern terminology we can talk about the complex adaptive system that is the political economy and the fact that productive advances feed back into changes to the social and ideological structures. I see hope in the fully scalable prosumer changes which seem to be working their way through the modern economy. Prosumers can possibly break down corporate behemoths to some extent in some fields. Power generation is one such field. Large distribution networks will still be necessary of course for cities and towns. It makes much more sense for the natural monopoly portion of the system to be public owned and regulated.

  15. Geoff Edwards
    September 13th, 2017 at 09:33 | #15

    While agreeing with the basic findings including the failure of the NEM on many counts and the regulatory tangle overseeing it, there is another, more decentralised approach.

    State governments are largely responsible for building control, town planning, electricity transmission and distribution, and are capable of running large-scale generators. Why do we need a National Electricity Market at all except to allow bulk power to be traded across the borders at various times of the day or seasons of the year? On the principle of subsidiarity, why don’t we move the debate out of Canberra into the State capitals? It is largely States that wear the odium for high prices and the States control most of the levers applicable in the the demand or retail side of the system.

    There are large efficiencies to be gained by regulating solar hot water, building efficiency standards, industrial efficiency standards and town planning schemes. Nobody in Canberra is talking about the estates full of black-roofed houses without eaves or verandas now being built on allotments too small to allow shade trees. The States have the authority to fix these regressive practices and don’t need to wait for Canberra.

    Centralisation is a good principle to apply where there are economies of scale. At present, we have colossal diseconomies of scale fanned by dysfunction in the national political arena. The States provide eight loci for innovation where the stakes for making an error are lower and hectoring from The Australian is slightly less intense.

    Prof John, I would like to see you apply the principles and logic of your model above to a decentralised system.

  16. totaram
    September 13th, 2017 at 11:35 | #16

    While auctions for PPAs is a nice conceptual start, life gets a little more complicated when we consider that generators do not only sell power (active power in AC terminology). They also sell/ buy reactive power as well as “rotational inertia” which assists in the stability of the entire system.
    An extreme case of reactive power buying and selling is the so-called “synchronous condenser”
    (look it up in Wikipedia), which is a large piece of rotating machinery dealing entirely in reactive power and rotational inertia. With developments in power electronics, we get Fast Frequency Response systems based on storage batteries, as well as “synthetic rotational inertia” which can be provided by wind-farms if they are incentivised to provide it.

    So at a very high level and with much hand-waving, one could conceive of the problem as one of minimising the cost of meeting demand, subject to meeting requirements for stability (the constraints), which are stipulated in terms of various stability parameters of the system.

    This is a hard problem to adequately capture mathematically, and probably very hard to solve even with the vast computational resources available today. However, it can provide some sort of conceptual framework.

    If linkages between the systems of the states are limited, the problem may be decomposed (a la Dantzig-Wolfe) but will introduce iterative negotiations between the states to reach any kind of decent (even if sub-optimal) solution. So while I sympathise with Geoff Edwards’ search for a decentralised solution, I would hesitate to propose one until the overall problem can at least be formulated properly. I would ignore hectoring from “the Australian”, which is sinking rapidly although not rapidly enough in my view, in terms of readership.

    As for the people who went about privatising the bits and pieces of the state-owned systems, I can only marvel at their sheer ignorance and/or bloody-mindedness.

  17. totaram
    September 13th, 2017 at 12:11 | #17

    @Alphonse
    The only sense I can make of it is that many lawyers are employed and much toing and froing takes place in the name of “efficiency”, actually adding to overall costs of the system and price increases for consumers. But that was no doubt the original intention, although not overtly stated.

  18. derrida derider
    September 13th, 2017 at 16:19 | #18

    All well and good, and I think Labor may be setting the scene for an arrangement broadly like this – it’s the only reason Shorten would be pushing the line that “the NEM has been a failure”, remembering that the NEM is at least as much a Labor as a Liberal creation.

    It does not, though, invalidate the fair point that the business lobbies have been making – that the roots of the present crisis lie less in the creation of any one market structure or one approach to climate policy and much more in the vacillations that have made planning and investment impossible (yes, I know – that’s mostly down to a single person, Tony Abbott. True but irrelevant because the Abbotts ye have always with you).

    The implication is that it matters less what either this or the next government do than that whatever they do survives future changes of government. So making the NEM a political football at the moment, and hence a matter of partisan bickering, would be quite counterproductive. Shorten in government should, as Turnbull wants to but is prevented by his know-nothings from doing, seek some bipartisan support for his approach.

  19. John Quiggin
    September 13th, 2017 at 21:21 | #19

    @derrida derider

    I agree, bipartisan support is desirable, but that can’t be achieved as long as Abbott-style culture warriors have significant influence in the LNP. So, we have to hope that Labor can stay in long enough to drive them out of politics. A long shot maybe, but I don’t see any alternative.

  20. rog
    September 14th, 2017 at 06:13 | #20

    AGL are sticking to their guns, they can’t see any advantage in using coal (even ‘clean’ coal) and want to proceed with renewables. AGL projects that in 50 years thermal generation will account for 1.5% of the NEM.

    And if anyone saw Barnaby Joyce last night; he’s sticking to the Nats guns and its coal coal coal all the way.

  21. Greg McKenzie
    September 14th, 2017 at 08:41 | #21

    Solar energy on a grand scale, AGL again, seems the best option. Wind power, thermal power and tidal power can (where appropriate) back this up. Given that the Snowy Hydro is already there, it can play the role of load adjuster. Not too keen on expanding it a la Turnball.

  22. Ken Fabian
    September 14th, 2017 at 09:34 | #22

    @Greg McKenzie
    Yes, I think hydro use can and should be reserved to supply when other supply is constrained. In part that can be done with flow through capacity – holding it back when other supply is available, without pumping. ie hydro used intermittently rather than continuously. I suppose to some extent that is what happens, but higher output over shorter periods may require some upgrades. Much more modest than 2.0?

  23. Ikonoclast
    September 14th, 2017 at 11:10 | #23

    @rog

    I guess a lot of Barnaby Joyce’s political donations come from coal mine owners. Hard to see any other logic to it.

  24. sjk
    September 14th, 2017 at 11:45 | #24

    If I am reading it correctly, point (ii) assumes a baseload + peaking model of energy distribution.

    This disadvantages renewables since – due to real world constraints – they cannot be relied upon when the authority wants to “match supply with demand”.

    Moreover, if, as suggested in (i), this new authority enters into fixed price contracts (as per the ACT model), renewable energy generators will want to supply as much power as they can – when the sun shining/wind is blowing – over the course of the contract.

    To take advantage of this desire, the authority needs to have the means to utilise this power whenever it becomes available, either on-selling to consumers immediately, or storing it for later use. The means is obviously the transmission network plus storage capability, including batteries & pumped hydro.

    In this way, we can de-couple generation from consumption, enabling a dispatch model that favors renewables (and consumers who wish to be generators as well) rather than baseload/peaking model that favors coal.

    Obviously, demanding renewable generators couple their solar/wind farm with storage is another answer. However, this is not efficient, since it increases the cost of the power per generator due to poor utilization of the total storage capacity.

  25. September 14th, 2017 at 11:47 | #25

    Hello Professor Quiggin, I just used your article, “The case for renationalising Australia’s electricity grid” as the second update to my Petition, “Take Back Public Ownership of the Electricity Grid” on Change.Org. With your permission I will reference this one tomorrow. You are saying exactly what I believe should be done. I believe if enough people sign the Petition we might actually achieve the goal if taking our GRID back.
    I am a private citizen in retirement. I have no affiliation to anyone or any organisation connected to the GRID. I am looking to people power to win. I am just a concerned citizen who if fed up with what has happened to our national energy supply. Thank you.

  26. September 14th, 2017 at 16:44 | #26

    Oh, and it’s possible to split the monopoly functions between a single regulator and a single grid manager (Ofgem and National Grid in the UK). Germany has IIRC the Bundesnetzagentur and three superregional grids. I fail to see what advantage this offers, especially as the largest grid operator, Tennet, is a wholly owned public corporation of the Dutch government. (I kid you not.) In Texas, ERCOT is the regulator and grid manager, but I don’t think it owns all the transmission assets. So there is some room for manoeuvre within JQ’s correctly Colbertian model. I doubt if these tweaks make much difference in practice, but they may affect political feasibility. A split allows conservative politicians to pretend that the grid is not part of the public sector.

  27. September 15th, 2017 at 12:23 | #27

    I agree with much of what Quiggins says but what ever we move to must take account of of the lack of consensus, particularly at federal level.
    I also have doubts about a national system and am inclined to independent state systems with some systems for interstate power flow. This may include options for states to set up generators outside of their boundaries so that, for example, Victoria is not too dependent on wind or Qld on solar. There may also be an option here for states to sell outside their boundaries and set up load sharing agreements outside their boundaries.
    The central system and monopolistic things like the grid should be publicly owned.
    I am agnostic re whether generators are publicly or privately owned provided that private supplies must not be able to shut down until replacement capacity is built.
    It is also important that the systems selected do not depend on durable consensus. This rules out using trading schemes like the RET

  28. rog
    September 15th, 2017 at 18:12 | #28

    AEMO is owned 60:40 govt/industry so its hard to identify which party contributed to the weakness of the NEM.

    However, to the best of my knowledge (which has its limits) its not the AEMO that is at fault as they can only consult, report and advise, blame for lack of action must ultimately come back to the head of govt i.e. Malcolm Turnbull.

    And as for Turnbull’s obvious capitulation to coal I can only think that energy corrupts.

  29. totaram
    September 15th, 2017 at 21:17 | #29

    “I am agnostic re whether generators are publicly or privately owned provided that private supplies must not be able to shut down until replacement capacity is built.”

    That in itself is a difficult problem to solve, if generators are privately owned by different players. How can you prevent someone from shutting down their plant, when the replacement, belonging to someone else, is in the pipeline but was delayed for reasons having nothing to do with the owner of this plant?

    In addition, you are neglecting the issues I pointed out above. How will you “cost” all the services provided by a “generator”: active power, reactive power, rotational inertia (synthetic as well as real), other stability controls, etc. Without a proper system for doing this you will be comparing apples with oranges when you compare different generation technologies.

  30. rog
    September 16th, 2017 at 06:14 | #30

    Writing for the Herald Sun David Speers puts forward a novel concept

    So who’s right and who’s wrong? Is keeping an old coal-fired plant pumping the best option? Or is solar with gas-peaking more viable? Well, here’s a novel idea: let the market decide. In fact, that is what the regulator being cited by the government has suggested.

    The Australian Energy Market Operator has not actually said Liddell must keep pumping beyond 2022 to meet the 1000MW shortfall in dispatchable power supply it’s worried about. AEMO chief executive Audrey Zibelman instead says the government should put in place a “reliability mechanism” to let the market decide how best to cover the shortfall. The government would conduct a reverse auction. Whoever can provide the necessary supply at the cheapest price wins. It may be coal, gas, hydro or something else.

    A “reliability mechanism” to guarantee dispatchable power could work with a Clean Energy Target, or whatever clever name the government wants to call it.”

  31. September 17th, 2017 at 12:27 | #31

    Kevin Cox :
    Give preference to community cooperatives to finance local infrastructure, local generating and storage.This will keep profits within local communities.

    Yes I agree with this and also Geoff Edwards’ point about decentralisation (though I think you coukd decentralise more down to local government level).

    I would also be interested to see how the logic and principles would apply to a decentralised model. I wonder whether the ‘unit’ in that model could be local communities rather than households, encouraging communities to manage their energy use?

  32. Mpower
    September 18th, 2017 at 10:01 | #32

    @Val
    Agree too with Val and Geoff Edwards that more micro grids are inevitable as storage costs decrease, and particularly as in Qld the subsidy ( c $700m) to regional users is wound down. But the point missing about a decentralised grid is that States would not be able to negotiate a nearer optimal layout for new location ,type of generation and interconnectors. Weather-driven -trade depends on locations of wind and power based on low climate correlations.

  33. September 18th, 2017 at 11:37 | #33

    @Mpower
    Not completely sure I understand you, perhaps you could explain a bit further?

    My question may not have been clear, I mean how would the principles in the national system outlined by JQ apply if we were trying to decentralise and localise power generation and distribution to local communities as much as possible? I understand that we would still need a national system as well.

  34. Smith
    September 18th, 2017 at 12:05 | #34

    @Val

    Why do we want to localise power generation? If you’re going to build wind farms, you put them where it is windiest. There might not be many of those places. As long as you can transport the electricity to where the people fairly cheaply, you should generate the electricity in the best places to generate electricity. Same with solar farms.

  35. September 18th, 2017 at 13:23 | #35

    @rog
    On co-ownership of the grid by utilities: this has been part of the reason that a bill, supported by Governor Brown, to link the California grid to neighbouring states has just failed in the state legislature. The existing US regional multi-state grid agencies follow this utility cooperative model, and progressives in California refused to allow out-of-state generators to acquire new influence over state energy policy.

    I think they were probably right. Utilities should be barred from ownership stakes in grid operators. The grid is an *intermediary* between suppliers and consumers, and must be neutral between their often conflicting interests. California should offer to cooperate – with independent grid operators like Texas’ ERCOT.

  36. Mpower
    September 18th, 2017 at 18:53 | #36

    @Val
    Grids need diversity, supply and demand, whether national or micro. The Vics would need to look to NSW and SA for back up when no wind and/or no sun – obviously more likely in a small state. the best location for NSW wind farms might be near the Murray- probably not optimal for Vic because of the high correlation.
    Of course the States on their own could negotiate directly but not many examples. For R&D they usually rely on Federal schemes, for example.

  37. September 19th, 2017 at 06:45 | #37

    @Smith

    @Mpower

    Thinking about it and trying to get an overview, there’s some different principles and values here
    – efficiency, large scale, either state or capitalist run, vs
    – localism, resilience, potentially equity if there are mechanisms for low income residents to buy in to community renewables

    I think there are benefits to local community action and ownership that aren’t necessarily captured by the idea of efficiency. I think from memory they had some good results in Germany.

    In a general sense I think involving local communities in action around mitigating climate change is important. One of the problems with climate science is that it’s been top down and remote, and so have some of the major responses. Garnaut, for example, had nothing to say about local communities in his first big report as far as I remember.

  38. September 19th, 2017 at 07:18 | #38

    Smith and Mpower

    I tried to reply to both of you at once and my comment went into moderation. So here it is again (JQ when you see the previous one could you please delete it)

    Thinking about it and trying to get an overview, there’s some different principles and values here
    – efficiency, large scale, either state or capitalist run, vs
    – localism, resilience, potentially equity if there are mechanisms for low income residents to buy in to community renewables

    I think there are benefits to local community action and ownership that aren’t necessarily captured by the idea of efficiency. I think from memory they had some good results in Germany.

    In a general sense I think involving local communities in action around mitigating climate change is important. One of the problems with climate science is that it’s been top down and remote, and so have some of the major responses. Garnaut, for example, had nothing to say about local communities in his first big report as far as I remember.

  39. Smith
    September 19th, 2017 at 10:49 | #39

    @Val

    WADR, this sounds very waffly. A more straightforward objective is to keep the lights on at reasonable cost with a minimum of carbon emissions.

  40. September 20th, 2017 at 09:26 | #40

    @Smith

    “For every complex problem there is an answer that is clear, simple, and wrong” H. L. Mencken

  41. derrida derider
    September 21st, 2017 at 17:27 | #41

    I agree with Smith here Val. As I’ve said before, best keep the “smash capitalism” and “stop AGW” agendas well apart from each other because failure to achieve one will jeopardise the other.

    You like community autonomy – great (though my personal experience is that the internal power dynamics of small self-contained communities are far worse than those in larger more open ones. I suppose YMMV). But, anyway, don’t bugger up the things most people value – well paid employment in a liveable environment – in pursuing that. And stuffing the electricity grid would do that.

  42. Ken Fabian
    September 22nd, 2017 at 09:36 | #42

    @derrida derider
    I have to agree with that last comment; too much of the obstructionist rhetoric is built around “green socialists wrecking the economy” – and it doesn’t seem to matter that the problem is a mainstream economic one as much as it is an environmental one, driven at it’s fundamentals with mainstream, non-political science.

    I’m not convinced nationalising is the way to go because it will devolve into well worn and diversionary conflicts of ideology, potentially making it all messier rather than achieving the hoped for freeing up of policy makers to intervene more directly for the greater good.

    Especially given the very changed market conditions since the big power sell-offs, with solar and wind being increasingly competitive – periodically winningly competitive and increasingly overall competitive in their own rights – pushing market based solutions in thorough overhaul look more likely to be effective. It would put the pro-coal interventionists and obstructionists who are supposedly pro-free markets on the back foot.

    I think the whole energy scene is so subject to change that the best policies today will probably be subject to revision tomorrow. Agility and Innovation anyone? The real things not the empty slogans.